Are IFRS for SMEs Irresistible Juggernaut for US Financial Reporting? [The Case of Small and Medium-sized Entities (SMEs) in US]

Transcription

1 Are IFRS for SMEs Irresistible Juggernaut for US Financial Reporting? [The Case of Small and Medium-sized Entities (SMEs) in US] Emamnew, Assefa Getachew Department of Accounting Karlstad Business School Karlstad University Station, Sweden Karlstad Tel: , Fax:

2 Outline of the Paper Table of Contents I Introduction 1 II Background 2 III - Literature review 3 IV -Statements the Problem or the Question 9 V -Presentation (of the work) 10 VI- Conclusions and recommendations 11

3 I Introduction Revolutionary changes are occurring in accounting and financial reporting standards in the US and other countries. Until 2008, the Securities and Exchange Commission (SEC) in the US required for financial reporting by companies traded in the US stock market, that their financial statements either follow US generally accepted accounting principle (GAAP) or to be reconciled to US GAAP. The SEC did not accept the International Standards (IFRS) issued by the IASB. Until the early 2002, Securities Commissions in most countries took the same basic position toward IFRS as did the United States SEC. GAAP is used in the preparation of balance sheets, measurements of shares and revenue recognition. These guidelines are maintained by the Financial Standards Accounting Board. While GAAP standards are complex, all companies must follow a few key principles. IFRS for SMEs is a modification and simplification of full IFRS aimed at meeting the needs of private company financial reporting users and easing the financial reporting burden on private companies through a cost-benefit approach. IFRS for SMEs is a self-contained global accounting and financial reporting standard applicable to the general-purpose financial statements. The significance of International Financial Reporting Standards (IFRS) for Small and Medium-sized Entities has immensely increased in recent years. This paper wants to show whether IFRS for SMEs Irresistible Juggernaut for US Financial Reporting [The Case of Small and Medium-sized Entities (SMEs) in US]? It provides the reasons why IFRS for SMEs Irresistible Juggernaut for US GAAP or Financial Reporting. And, it also attempts to show efforts clearly manifested by the IFRS for SME to have a single accounting standard worldwide. Indeed, such standards will foster benefits to the global financial market as it introduces a new trend in the area of financial reporting. Here, the study will to answer the question raised in the thesis through analyzing secondary data and using personal experience. II Background Information While the convergence US GAAP and IFRS continues to be a high priority on the agendas of both Financial Accounting Standard Board (FASB) and 1

4 International Accounting Standard Board IASB, there are still differences between the two GAAPs. Understanding the similarities and the differences between US GAAP and IFRS on various basis can be challenging because while the principles and the conceptual frameworks for US GAAP and IRFS are generally similar. Though this is true, accounting experts are still putting their greatest effort to minimize the existing difference. Accounting Summit, now in its about tenth, year is going to focus on the convergence accounting standards (narrowing IFRS and FASB difference) since the global economic crisis has taken hold, highlighting what s now been changed/amended in accounting standards globally. And there will be something that they may say for practitioners. Delegates will have the opportunity to find out firsthand about the latest standards to be set by the International Accounting Standards Board (IASB) and all the very latest updates. The IASB who set these standards are very keen to do more for the globe and I hope they will be outlining their aspirations during the summit. Definition of SME In the study we define the term SME to include firms with less than 500 employees and exclude firms with less than 100 employees. The focus of this paper is to portray why IFRS for SMEs an irresistible juggernaut for US Financial Reporting. In this paper, Private Companies mean Medium-sized Entities (SMEs) in US. And US Financial Reporting could be mean Financial Accounting Standard Board (FASB) or Generally Accepted Accounting Principle (GAAP). All U.S. Private Companies or Medium-sized Entities (SMEs) are included in the definition of SME. The July 2009 release of International Financial Reporting Standards (IFRS) for Small and Medium-sized Entities (SMEs) is a major event in the adoption of international standards by U.S. companies. The recognition of the International Accounting Standards Board (IASB) as a standard-setting body, IFRS for SMEs automatically becomes an acceptable basis for accounting in the United States. Prior to the release of IFRS for SMEs, professionals studying the U.S. adoption of IFRS generally concluded that public companies would lead the way in the U.S. adoption. However, since the SEC has made it clear other problems are more pressing right now, it is quite possible that private companies, not public ones, will lead the U.S. adoption of international standards. 2

5 IFRS for SMEs is an approximately 230 page, significantly reduced and simplified version of full IFRS. In creating IFRS for SMEs, the IASB eliminated many accounting topics that are not generally relevant to private companies (for example, earnings per share and segment reporting). Being based on full IFRS and missing many accounting topics, IFRS for SMEs therefore differs from U.S. GAAP in a variety of areas. The IFRS for SMEs has simplifications that reflect the needs of users of SMEs' financial statements and cost-benefit considerations. Compared with full IFRSs, it is less complex in a number of ways. The objective of having a single accounting standard worldwide is clearly manifested by the IFRS for SMEs efforts. Indeed, such standards will foster benefits to the global financial market as it introduces a new trend in the area of financial reporting. Here, the study will to answer the question raised in the thesis through analyzing secondary data and using personal experience. Are IFRS for SMEs Irresistible Juggernaut for US Financial Reporting? [The Case of Small and Medium-sized Entities (SMEs) in US] III Literature Review General over view of US Financial Reporting It is expected that the next Accounting Summit is going to focus on the convergence accounting standards (narrowing IFRS and FASB difference) since the global economic crisis has taken hold and stressing what s now amended in accounting standards worldwide. While the convergence US GAAP and IFRS continues to be a high priority on the agendas of both Financial Accounting Standard Board (FASB) and International Accounting Standard Board IASB, there are still differences between the two GAAPs. US GAAP Statements of Financial Accounting Standards - the most authoritative GAAP setting publications. More than 150 have been issued to date. Statements of Financial Accounting Concepts - first issued in They are part of the FASB's conceptual framework project and set forth fundamental objectives and concepts that the FASB use in developing future standards. However, they are not a part of GAAP. There have been 7 concepts published to date. 3

6 Interpretations - modify or extend existing standards. There have been around 50 interpretations published to date. Technical Bulletins - guidelines on applying standards, interpretations, and opinions usually solves some very specific accounting issue that will not have a significant, lasting effect. General over view of IFRS for SMEs Encyclopedia dictionary defines SME in different context that is according to some countries definition. Though different countries have different ways of definitions for the same idea, they all are talking almost the same language. This free dictionary narrates the idea like this: The abbreviation SME occurs commonly in the European Union and in international organizations, such as the World Bank, the United Nations and the WTO. The term small and medium-sized businesses or SMBs has become more standard in a few other countries. EU Member States traditionally had their own definition of what constitutes an SME. But now the EU has started to standardize the concept. Its current definition categorizes companies with fewer than 50 employees as "small", and those with fewer than 250 as "medium. By contrast, in the United States, when small business is defined by the number of employees, it often refers to those with less than 100 employees, while medium-sized business often refers to those with less than 500 employees. However, the most widely used American definition of micro-business by the number of employees is the same of that of European Union. ( According to the issuance of IASB on 9 July 2009, IFRS for SMEs could be explained within few words as follows. It is the first set of international accounting requirements developed specifically for small and medium-sized entities (SMEs). It has been prepared on IFRS foundations but is a stand-alone product that is separate from the full set of International Financial Reporting Standards (IFRSs). The IFRS for SMEs has simplifications that reflect the needs of users of SMEs' financial statements and cost-benefit considerations. Compared with full IFRSs, it is less complex in a number of ways. In countries that have weak financial disclosure requirements, investors generally demand additional financial information when companies issue equities (stock). As a result, governments in these countries are often compelled to revise or develop securities laws that require improved financial 4

7 reporting disclosure. Developing accounting and finance reporting requirements that is: Generally Accepted Accounting Principles is a complex and time consuming process. An easier and more effective solution is to adopt IFRSs, which have a higher level of financial reporting disclosure than most countries GAAP (Ding 2006). United States of America is one of these countries, so need to adopt IFRS for SMEs for its financial reporting purposes. Practically speaking, IFRS for SMEs is not viewed as an accounting framework for entities that are not of the size nor have the resources to use full IFRS. In the United States, the term "SME" would encompass many private companies. Defines SME as used by IASB: Small and medium-sized entities are entities that: (a) Do not have public accountability, and (b) Publish general purpose financial statements for external users. An entity has public accountability if: (a) Its debt or equity instruments are traded in a public market or it is in the process of issuing such instruments for trading in a public market (a domestic or foreign stock exchange or an overthe-counter market, including local and regional markets), or (b) It holds assets in a fiduciary capacity for a broad group of outsiders as one of its primary businesses. The standard does not contain a limit on the size of an entity that may use the IFRS for SMEs provided that it does not have public accountability. Nor is there a restriction on its use by a public utility, not-for-profit entity, or public sector entity A subsidiary whose parent or group uses full IFRSs may use the IFRS for SMEs if the subsidiary itself does not have public accountability The standard does not require any special approval by the owners of an SME for it to be eligible to use the IFRS for SME Listed companies, no matter how small, may not use the IFRS for SMEs. [1] (IFRS for SMES, based on the class lesson) Limitations of US Financial Reporting and IFRS for SMEs There are some barriers encountered by US private companies while implementing IFRS for SMEs. In May 2008, the AICPA called a meeting for it wanted to know whether establishing international financial accounting and 5

8 reporting principles or not. And it found out that members of AICPA could have the option to use IFRS as alternative to US GAAP. But, there were key skilled people who were not ready and interested to use and hence IFRS for SMEs has been ignored. Any lingering barriers may come in the form of reluctance by a private company s financial statement users to accept financial statements prepared under IFRS for SMEs and a private company s disbursement of money, time and exertion to alter to IFRS for SMEs. (AICPA [1] (IFRS for SMES, based on the class lesson) 6

9 To make the above statements crystal clear, it could probably be better to show the idea in a table. Some constraints that could be observable while putting US Financial Reporting and IFRS for SMEs in to practice as compared with US Financial Reporting are presented in the following manner: US Financial Reporting Cost-benefit relationship states that the benefit of providing the financial information should also be weighed against the cost of providing it. IFRS for SMEs -Lack of key professionals in the field or area of the study because of time and awareness A Deloitte (United States) survey published in July 2009 shows that 43% of SME respondents are not aware of the IASB's standard IFRS for SMEs, indicating the need for more education. Weak Financial Disclosure pensions, leases and financial instruments -Companies may incur a lot of costs while implementing IFRS for SMEs for the first time Industry practices states that accounting procedures should follow industry practices -Companies would have more expenditure of time and effort to convert to IFRS for SMEs. Conservatism states that when choosing between two solutions, the one that will be least likely to overstate assets and income should be picked. Materiality states that the significance of an item should be considered when it is reported. An item is considered significant when it would affect the decision of a reasonable individual. 7

10 IFRS for SMEs and its Advantages over US Financial Reporting Volume John L. Daly (2008) portrayed that the volume of IFRS for SMEs is so short as compared with both full IFRS and FASB. He added that the full text runs only 232 leaves. This as compared to the 2,500 pages for full IFRS and 25,000 for US GAAP would be the good news that everybody may wants to listen to. IFRS for SMEs is not some rigorously scaled-down standard intended and designed for third world countries, but a wide-ranging principles-based standard. IFRS for SMEs is designed to help entities to meet their specific needs. It reliefs them from using the full IFRS that could have been their most unresolved problem while applying. (Video on the Convergence of Accounting Standards) Simplicity John L. Daly (2008) depicts that there is extra news for most US Accountants because the standards discussed in IFRS for SMEs looks familiar and common to them yet, there are also unfamiliar term. Simplicity is a common character in IFRS for SMEs. For instance, we can assume omission of LIFO during inventory. ( Small and Medium sized Entities) IFRS for SMEs specifies Financial Statement footnotes must be in a systematic order and that companies must cross-reference them to the financial statements. This is a common-sense improvement to the readability of financial statement (John L. Daly 2008). IFRS for SMEs is a plainly simplified guidance on computing impairment of goodwill especially when goodwill cannot be allocated to cash generating units. ( Small and Medium sized Entities) Reduction in Disclosure Requirements Reduction in disclosure requirements are substantially reduced in IFRS for SMEs. The requirements for disclosure encouraged by the full IFRS is omitted for accounting policy options and cost benefit considerations reasons (July ) 8

11 In countries that have weak financial disclosure requires developing accounting and finance reporting. Which one of the two standards fulfills the full disclosure requirements? Is it GAAP or IFRS for SMEs? Regardless of this question, one researcher (Ding 2006) suggests that Generally Accepted Accounting Principles is a complex and time consuming process. An easier and more effective solution is to adopt IFRS, which have a higher level of financial reporting disclosure than most countries GAAP. Internationalization of SMEs Internationalization of SMEs or globalization (most evolved form) of SMEs is attaining higher and higher through a variety of development modes. That might include: exporting; licensing; franchising; management contract; etc. (R Cressy, B Gandemo and Olofsson1996) Two researchers (Carter and Evans) state that internationally active SMEs are growing faster. These internationally active SMEs are growing faster than their domestic counterparts.while, those in traditional industries (around 50%) internationalize incrementally via exporting. It would, indeed, appear that most SMEs now see internationalization as not only fashionable, but imperative (Sara Carter and Dylan Jones Evans 2000). The globalization and increasing competition point out the significance of understanding how SMEs internationalize and how their network environment influences the internationalization process. Do Private Companies in the United States prefer to prepare its financial statements in accordance with IFRS for SMEs? Yes, they need it for various purposes and want to fulfill their specific need and requirements. For instance, private U.S. Company would prepare IFRS for SMEs based on their particular financial statements. The financial users might believe that IFRS for SMEs simplified and an attractive alternative to the more complicated and voluminous U.S. GAAP. (FAQ IFRS for SMEs available: Those private companies in US found IFRS for SMEs a more relevant and less costly reporting standard than US Financial Reporting. The other IFRS for SMEs users can be private companies owned by foreign investor or supplier by foreign companies. 9

12 IV Statement of the Problem Are International Financial Reporting Standards (IFRS) for SMEs unstoppable and irresistible from being applied by US Financial Reporting? Do Small and Medium-sized Entities (SMEs) in US need implementing IFRS for SMEs? How could IFRS for SMEs be an irresistible juggernaut for US GAAP? Are IFRS for Medium-sized Entities uncontrollable to the US Financial Reporting? How does this study entertain the case of Small and Medium-sized Entities (SMEs) in US? Are IFRS for SMEs intended to be used by private companies in US? How far is worldwide acceptance of IFRS for SMEs for US financial reporting? May be the above questions have been there for several years but, some of them could still have not been answered satisfactorily. To answer these questions, we may need both extensive and intensive work for they seem worth studying and vast in nature. The questions that are raised in this paper might be really in need of solid and simple answers, not ideas beating around the bush. They need a concise answer, not clumsy and jumbled one. Having the answer for the mentioned questions mean, making entities to become aware of what IFRS for SMEs is intending for. And, the importance of IFRS for SMEs in handling financial reports will be revealed and how crucial they are in bridging the financial reporting gap between SMEs in US and SMEs in other parts of the world. Answering the stated questions mean a lot. It could explain why private company in the U.S. may decide to use IFRS for SMEs. It further expresses why ever increasing amount of private companies are looking to conduct business outside the Unites States and obtain foreign financing. Using a common global financial accounting and reporting standard, like IFRS for 10

13 SMEs, increases comparability between companies and improves the efficiency of conducting business across borders. Users of private company financial statements prepared in accordance with IFRS for SMEs would benefit from a common global standard. In conducting business with private companies in different countries, lenders, venture capitalists and other users would just need to understand and work with one financial accounting and reporting standard. It would put one in a better understanding of IFRS for SMEs in respective to US GAAP and give the impression how far the standards are becoming influential in the accounting world. It would also help one to know how far worldwide acceptance of IFRS for SMEs for US financial reporting. V Presentation (of the work) First, the study started providing the definition of SMEs in order to wipe away an ambiguity while seeking the answer to the problem and then assessed the general over view of US Financial Reporting and IFRS for SMEs. The focus the study went to the limitations of US Financial Reporting and IFRS for SMEs and leaped to Advantages IFRS for SMEs The financial users believe that IFRS for SMEs simplified and an attractive alternative to the more complicated and voluminous U.S. GAAP. Perhaps, here, there exists one of the reasons that why companies in the United States will convert their financial reporting to IFRS for SMEs This paper entertains the easiness of applying IFRS for SMEs while reporting. Simplicity is a Pivotal point for most SMEs in US for no entity wants to report its financial activities in a most complex and time taking way as far as there is IFRS for SMEs which is clear, easy and effective. The theme of the problem could be asked here, are IFRS for SMEs Irresistible Juggernaut for US Financial Reporting? In countries that have weak financial disclosure requires developing accounting and finance reporting. Which one of the two standards fulfills the full disclosure requirements? Is it GAAP or IFRS for SMEs? Regardless of this question, one researcher (Ding 2006) suggests that Generally Accepted 11

14 Accounting Principles is a complex and time consuming process. An easier and more effective solution is to adopt IFRS, which have a higher level of financial reporting disclosure than most countries GAAP. Having above discussed points and the writer s suggestion in mind, one could also guess that US need to adopt IFRS for SMEs for its financial reporting purposes. So, IFRS for SMEs are irresistible to US GAAP. Internationalization SMEs is interesting because of its economic and political importance. SMEs are the largest source of employment. Hence, this study can now suggest what would be the direct and indirect influence of the international transaction on the futurity of US financial reporting status. Here the paper indicating that United States of America need to establish and conduct transaction with other countries. In the preceding sections, the reasons why private U.S. companies would prefer to prepare their financial reporting using IFRS for SMEs are vividly forwarded. Therefore, this may imply that IFRS for SMEs are becoming An Irresistible Juggernaut for US Financial Reporting. VI Conclusion and Recommendation This study reviews International Financial Report for Small and Medium sized Entities and how their use has recently increased in U.S.A. IFRS for SMEs is favorable to Small and Medium sized Entities in its nature of simplicity and in the reduction of disclosure requirements. It is also preferred by most US Private Companies for the propose reporting financial status. Hence, IFRS for SMEs are becoming imminent to be irresistible to replace US GAAP Currently, this study reveals that globalization and increasing competition point out the significance of understanding how SMEs internationalize and how their network environment influences the internationalization process. Internationalization SMEs is interesting because of its economic and political importance. SMEs are the largest source of employment. Hence, one can have a review of how the direct and indirect influence of the international transaction on the futurity of US financial reporting status is. U.S. needs to establish and conduct transaction with other countries. This means, it leaves US with a no go decision to develop and adopt IFRS for SMEs. If it rejects adopting the standards, there would always be home works to be done that in turn could take private companies in US nowhere (makes them incompetent). 12

15 So, bearing this in mind, it could be pointed out that IFRS for SMEs are possibly irresistible juggernaut to US Financial Reporting. On the other hand, IFRS for SMEs is building on the idea of sameness (readily understood by common sense), Simplicity (in application) and familiarity (with accountants) to facilitate the ground for the creation of common accounting (economic) language ever been done. This means many Private companies in the United States now have another more simplified accounting and financial reporting option. Accountants in the United States and the profession must keep pace with IFRS. A private company in the United States chooses to prepare its financial statements in accordance with IFRS for SMEs Hence, the above realities or evidences would reveal that IFRS for SMEs might be irresistible juggernaut to US Financial Reporting in the next few years. Future research could consider the use of IFRS for SMEs by U.S. publicly held companies and may closely see the need for effective training and education for currently most U.S. accountants in the United States are not trained in IFRS. Future research evaluates companies who are converting to IFRS for SMEs. Future research looks in to companies that are confronted with the lack of general accepted ways of applying these standards. Moreover, future research could develop simplifying IFRSs as part of the process for developing accounting standards for SMEs and future research could investigate the benefits and problems associated with IFRS for SMEs. Future research tries to reach out whether adoption of IFRS for SMEs leads to easier access by private companies to capital market and financial transparency. 13

16 Reference Deloitte IFRS Survey 2009 for SMEs available: www://ifrsforsmes, 2009 Deloitte Touche Tohmatsu Daing, Z. (2006). International Accounting Standards and Its Global Effect, Unpublished, pp.1-9 FAQ IFRS for SMEs available: AICPA /8/14 IFRS for Small and Medium-Sized Entities (SMEs), By John L. Daly, Executive Education, Inc Washington Society of CPAs, LAST UPDATED 2009/8/14 omeoffice July 2009, modified on

17 for Small and Medium sized Entities, July \10\209 R Cressy, B Gandemo and C Olofsson (eds.) (1996). Financing SMEs: a Comparative Perispective. Stockholm, Alpha print, sundbyberg. P Sara Carter and Dylan Jones Evans (eds.) (2000). Enterprise and Small Business: Principles, Practice and Policy. Great Britain, Ashofor Colour Press Ltd., Gosport. PP US GAAP, available: /10/17 Video on the Convergence of Accounting Standards, 10/14/ , 12:05 PM